Originally posted by Jehos:I like how you say trillions, but the NYT says tens of billions. Considering that Iraq cost us $200 billion, it's relatively a drop in the bucket.

Reading comprehension for the loss?

The US taxpayer will be explicitly guaranteeing the balance sheets of both entities, totaling $5 trillion of potentially toxic paper.

There is no way to know how much of that will default or at what price the paper would be sold at if it were dumped out onto the open market, but the total exposure at default is still $5 trillion.

:edit: And by the way - the US taxpayer has ALREADY lost now that this explicit guarantee is in place. The existing equity holders have been wiped out, but the debtholders are now being made whole at par through us government guarantee in exchange for an asset pool which has an unknown amount of worthless paper in it.

You can see this by looking at the CDS spreads on Fannie and Freddie. In early january, CDS spreads on Fannie were around 77 basis points.

Originally posted by 10k:The US taxpayer will be explicitly guaranteeing the balance sheets of both entities, totaling $5 trillion of potentially toxic paper.

Stop it. Just stop it.

Quit saying $5 trillion of toxic paper. Included in that $5 trillion is all the people who pay their mortgages like they should. The most recent data I could find was from CNN today that lists forclosures at 2.8% of outstanding loans. So if the gov't assumes all the risk of Fannie and Freddie this weekend, then come Monday Fannie and Freddie are on the hook for around $140 billion.

The CNN article also says that during the months of April, May, and June, 6.4% of homeowners were behind on their payments. Let's head into fantasy land and say that 6.4% grows to 10%, and by some crazy perfect storm miracle, ALL of those people are deadbeats and have to be foreclosed on. In that worst case, we're talking $500 billion dollars of paper that has to be guaranteed.

Now then, it's unreasonable to assume that Fannie and Freddie are broke and have to ask Uncle Sam for cash to cover all that bad debt. They almost certainly have taken out credit default swaps on their own paper to hedge the risk--let somebody else insure the mortgage-backed securities wherever possible and just pay a premium. They also have money in the bank, and money coming in from the spreads between the mortgage rates and the yields on the securities they sell. Let's say they're really hurting and can only cover 50% of what they have to pay out. In the perfect storm scenario that puts taxpayers on the hook for $250 billion. Let's also note that the $250 billion doesn't have to be paid at once--it's just $250 billion in outstanding bonds that have to be paid when they mature, and the maturities are all staggered out. It's not like everybody bought their home on the same day 29 years ago or anything.

So in a perfectly horrible world, the US taxpayer is out $250 billion over some number of years thanks to the government taking over Fannie and Freddie.

Of course in the real world, the default rates on those mortgages probably isn't going to be that high, and Fannie and Freddie's ability to cover the defaulted mortgages isn't going to be that low. Plus I'm not even going into the benefit to the economy that cheap mortgages provide, and the direct responsibility of Freddie and Fannie for providing those cheap mortgages. Or would you rather save the taxpayers tens of billions of dollars in the real world in exchange for 15-20% interest rates on mortgages, and don't even apply for one unless you have *at least* 20-25% to put down on the house not including closing costs? Personally, I'd rather pay the tens of billions to mortgages and bring our troops home, saving hundreds of billions at the same time.

Quit saying $5 trillion of toxic paper. Included in that $5 trillion is all the people who pay their mortgages like they should. The most recent data I could find was from CNN today that lists forclosures at 2.8% of outstanding loans. So if the gov't assumes all the risk of Fannie and Freddie this weekend, then come Monday Fannie and Freddie are on the hook for around $140 billion.

I think you're being a bit obtuse about the risks:

quote:

With foreign governments increasingly skittish about holding billions of dollars in securities issued by the companies

What happens if the Chinese government, who IIRC owns hundreds of billions in securities in our housing market, decides to cash those in over concerns about the integrity of Fannie and Freddie? What if there's a run on the FMs, wiht all those foreign investors worried about the health of the US economy? THAT's the real risk, dude, and that could force them to find liquid assets totaling in the trillions.

HomeownershipHomeownership is central to the American dream, and Republicans want to makeit a reality for everyone. That starts with access to capital for entrepreneurs and access to credit for consumers. Both have improved immensely in the past four years, resulting in record levels of homeownership.For the first time, more than half of all minorities own their home.

We support the President’s goal of increasing the number of minority homeowners by at least 5.5 million families by the end of the decade. Since President Bush announced his initiative in 2002, an additional 1.6 million minorities have become homeowners. The Self-Help Homeownership Opportunities Program helps low-income families purchase a home. The most significant barrier to homeownership is the down payment. We support efforts to reduce that barrier, like the American Dream Downpayment Act and Zero Downpayment Mortgages. The President and Congress have taken action to provide counseling and education to help first-time homebuyers navigate the process of buying a home. The Administration has also taken steps to alert people to the dangers of predatory lending, in an effort to help Americans maintain a positive credit history.

Originally posted by Pocky Is God:I would let them fold under the weight of their own crap. But that is just me.

I agree. But then you remember that Fannie Mae was a branch of government for thirty yearsbefore part of it was privatized, and that Freddie Mac was chartered by the governmentto compete with Fannie. And we can't forget that a lot of people hold shares in theseventures, with a premium because they were government backed. And that elements of thegovernment have strongly encouraged home loans to minorities and marginal risks,as part of a political agenda (not to mention the direct subsidies to mortgage-takersand mortgage-holders).

Really, the government never should have been in the money-lending business, but atthis point it's like Iraq: all about exit strategy, not blame (FDR, <cough>).

Originally posted by hugin:I think you're being a bit obtuse about the risks:

quote:

With foreign governments increasingly skittish about holding billions of dollars in securities issued by the companies

What happens if the Chinese government, who IIRC owns hundreds of billions in securities in our housing market, decides to cash those in over concerns about the integrity of Fannie and Freddie? What if there's a run on the FMs, wiht all those foreign investors worried about the health of the US economy? THAT's the real risk, dude, and that could force them to find liquid assets totaling in the trillions.

No problem, either we default on that debt, or the Fed will just print up a few trillion in new paper. Which would basically force anyone else holding US debt to cash out for as much as they could... forcing the US to either default or print more money...

There is a larger concern here. Option ARMs are set to start recasting soon and that subgroup of mortgages is substantially larger than the subprime market. If current projections are correct, the losses from foreclosures on those mortgages will easily outpace the subprime collapse.

Even more troubling is the fact that prime foreclosures are up a substantial amount. This hasn't been getting a great deal of coverage, but, as you can imagine, the foreclosure rate for prime continuing to increase substantially is a financial catastrophe of global scope.

There are also other troubling developments, such as constriction in the Chinese money supply.

We are in an international economic slowdown. The Organization for Economic Cooperation, a mainstream international organization, has been unusually frank. It has predicted economic contraction for Great Britain for the next two quarters. It has said that Germany, Italy, and France will barely grow.

"We are facing difficult times, you know we are in a situation where you have the combination of the credit crunch together with high oil and food prices and we have not seen that coming together. It is unique, which the IMF itself has said we have not seen this since the 1930s in fact," said Darling.

quote:

We are now seeing the entire Western world facing a recession. China and Asia have not yet hit the brick wall, but their stock markets are down by over 50% over the last year. This indicates that the days of wine and roses are over for Asia, too.

China's central bank has inflated the currency consistently by close to 20% per annum for years. This is now catching up with the nation. Prices are rising; bottlenecks are appearing; and businesses are going bankrupt that had relied on cheap labor. The Austrian theory of the trade cycle still is alive and well in Asia. When Asian central banks begin to cut back on the expansion of their currencies, the recession will hit them the way that it has hit the West.

The fact that the Chancellor of the Exchequer would go public with his assessment of the economy indicates that the incumbent politicians have been covering up the real situation all year. Darling went public because no other incumbent politician was willing to do so. The British public is well aware of the situation. Voters in Great Britain have been voting Labour politicians out of office. Labour has been the incumbent party, and Labour will now pay politically. The same situation is facing the Republican Party in the United States. There is no escape from reality of this economic crisis. Incumbent politicians are saying as little as possible, but the reality of the economy cannot be hidden indefinitely.

quote:

Anyone who says that the worst is behind us has got to show that he never said it before, and that the evidence clearly indicates that the new engine of economic growth has begun to accelerate. There is no identifiable engine of growth today. There is no large segment of the American economy, the British economy, the European economy, or the Asian economy that indicates that there has been a turnaround, and that the engines are sufficiently large to pull the stagnating national trains.

This Summer 2008, in line with GEAB N°26 anticipations, has given evidences of the fact that the world is now entering full-speed into the phase of impact of the global systemic crisis.The next issue of the GEAB (GEAB N°27) is coming up on September 16th, with new anticipations from the LEAP/E2020 team: updated schedule of the next steps of the global systemic crisis; forecasts from our researchers on the upcoming US election and possible impact on the Very Great US Depression; next stages of the evolution for the Dollar, Euro and other prevailing currencies; updated conflict analyses - Iran, Russia, NATO and post-Olympics China; usual recommendations to investors and a special recommendation for companies on what is the profile of executives most likely to efficiently handle the consequences of the crisis.

Couple all of this with the fact that the monetary supply is still constricting after over $2 trillion in injections, the world's reserve currency is rallying, inflation is easing, banks are failing and unemployment rising, and you'll start to see all the familiar signs of deflation.

The situation is beyond bad. It's basically financial doomsday and few outside of Wall Street, the economists' circles and the central banks want to admit it. Anyone who doesn't see the writing on the wall at this point is in for a very unpleasant shock in the near future. It's going to be bad times for everyone and there isn't terribly much anyone can do about it.

No matter how you look at it, the US tax payer "bought" $5 trillion of mortgage loans at face value. Nobody believes that these are worth face value and $???billions of them could be worthless.

Another way to look at it would be to consider the debt/equity ratio of FNM during the good 'ol days.At year end 2004, 2005, and 2006, total debts were $953B, $764B, and $767B, respectively. For the same periods, total equity was $39B, $39B, and $41B. The resulting debt/equity ratios for 2004, 2005, and 2006 were 24.4x, 19.6x, and 18.7x.

Since the mortgages are irrefutably more risky today then they were in 2006, it stands to reason that in order to be "sufficiently capitalized" (analogizing to capital ratios for FNM in 2004 2005 and 2006) on $5.2 Trillion of assumed debt, the government will require at least $278 billion in equity (using 18.7x debt/equity ratio from 2006) to recapitalize the assumed mortgage portfolio.

Clearly the expectation isn't for total loss, however this is real money that is coming out of the treasury or off of the Fed's printing presses. Fannie and Freddie need to continue to operate as going-concerns since they provide the majority of liquidity in the mortgage lending market. Bond investors would not purchase FNM or FRE bonds if their balance sheets were not sufficiently capitalized to absorb losses on the asset side.

Daedalus,Great post. Here's an easy to understand chart published by WSJ the other day on the option ARM recasting schedule:Those numbers are in billions. How many people do you think bought adjustable rate mortgages with the knowledge that their payments would be going up 40%+? How many of those people do you think have the ability to meet these increased payments? From now until 2012 there are hundreds of billions of dollars of these mortgages where the payments will be going up ~36% to 80% over what these people are currently paying.

Fannie and Freddie need to continue to operate as going-concerns since they provide the majority of liquidity in the mortgage lending market.

They should cease to take on new business and be wound up.

They're simply not necessary agents in the market. You don't need a government-guaranteed (or government-owned, if that truly comes to pass) buyer of mortgages to achieve a high level of home ownership.

Fannie and Freddie need to continue to operate as going-concerns since they provide the majority of liquidity in the mortgage lending market.

They should cease to take on new business and be wound up.

They're simply not necessary agents in the market. You don't need a government-guaranteed (or government-owned, if that truly comes to pass) buyer of mortgages to achieve a high level of home ownership.

So in a perfectly horrible world, the US taxpayer is out $250 billion over some number of years thanks to the government taking over Fannie and Freddie.

I could be wrong, but considering the economy in general is showing some bad signs, like high unemployment for example... couldn't we have a case where the mortage crisis starts at a relatively "small" rate of 5-6% defaulting, which drives prices of homes down as these homes will be then sold at cut rates to get SOMETHING out of them if possible.. which could cause a sort of ripple effect leading to more defaults?

I'm not saying it will happen, but saying that the amount of defaults can't possibly grow all that much more then the current american's who are having trouble seems far from worst case, and in fact a much nicer or even middle road case.

"How many people do you think bought adjustable rate mortgages with the knowledge that their payments would be going up 40%+?"

There is a limitless supply of idiots.

I do wonder at the strategy of the companies holding those mortgages. There doesn't seem to be a point in raising rates to levels that they KNOW will force foreclosures. The logical customer response would be to live in the home as long as possible, gut it for everything that could be sold, then walk.

If the companies holding the mortgages had any sense at all, they'd be avoiding foreclosures at all cost - which means proactively getting people to refinance to fixed rate mortgages wherever possible, before it's too late.

Originally posted by PeterB:They're simply not necessary agents in the market. You don't need a government-guaranteed (or government-owned, if that truly comes to pass) buyer of mortgages to achieve a high level of home ownership.

I hate how you always say what I come to a thread to say, Peter. Stop it. That aside, this is absolutely right. The two lenders grew to such a size because they were implicitly government backed, which pushed many of their competitors out of the market, and into the riskier segments in search of yield.

Further, this is the farthest thing from mortgage armageddon: the shareholders of these two companies are essentially being wiped out, which is an outcome commensurate with the risk the institutions were taking on, while borrowers need not fear increased pressure from their lenders. All things considered and given the current market conditions, this is a fairly good outcome for all involved (excepting, perhaps, the shareholders).

Fannie and Freddie need to continue to operate as going-concerns since they provide the majority of liquidity in the mortgage lending market.

They should cease to take on new business and be wound up.

They're simply not necessary agents in the market. You don't need a government-guaranteed (or government-owned, if that truly comes to pass) buyer of mortgages to achieve a high level of home ownership.

Entirely agreed. The government should put them in receivership, clean up their balance sheets, and split them up into pieces that can either be acquired by financial institutions that deal, or want to deal, in the mortgage business, or leave them to operate as a collection of smaller, private financial institutions.

Originally posted by Dest:Further, this is the farthest thing from mortgage armageddon: the shareholders of these two companies are essentially being wiped out, which is an outcome commensurate with the risk the institutions were taking on, while borrowers need not fear increased pressure from their lenders. All things considered and given the current market conditions, this is a fairly good outcome for all involved (excepting, perhaps, the shareholders).

This is a great outcome for the preferred and debtholders but an absolute nightmare for you, me, and the rest of the US taxpayers! We are all directly financing this bailout through either higher direct taxes or higher indirect taxes (inflation).

I doesn't matter, the FM's cannot be allowed to fail outright, no matter how badly they screwed up. We, the taxpayers, need to suck it up and pay for it. We just better learn our lesson. Free markets where the government underwrites some large players aren't really free at all, they're just tools to siphon wealth from the many to the few.

We got into this situation because we've allowed corporations (like the FMs) to manipulate government to their own advantage.

We can either have really free markets where behemoths like the FMs have no way to come into being, or tightly controlled markets. Where we are now is like walking down the middle of the road in Miyagi's metaphor, and we're the ones getting 'squished like grape'.

Originally posted by OhmHazzard:I'll wager that the execs of these companies will still get their pay + bonuses for this quarter.(and likely still get a year end bonus too)

And that's really the crux of the problem. If those guys never hurt from any action they take, they have no need to learn how not to be dumb, or greedy.

"Dumb", as applied to the executives of all these troubled financial institutions, is a complete oxymoron. They made more money in a year than the rest of us will make in a lifetime, several years in a row. The company itself is just a dumb beast you ride as hard as you can, as far as you can, until it drops dead from the exertion.

They got theirs, and that's all they care about. The stockholders? Investors? Taxpayers? Fuck 'em.

These guys are probably saying to themselves what James Woods' character said out loud in the closing lines from Citizen Cohn- "I can't believe they let me get away with it!"

Originally posted by 10k:How many people do you think bought adjustable rate mortgages with the knowledge that their payments would be going up 40%+? How many of those people do you think have the ability to meet these increased payments? From now until 2012 there are hundreds of billions of dollars of these mortgages where the payments will be going up ~36% to 80% over what these people are currently paying.

That chart only covers option-ARMs, and even then only applies to people making the minimum payments on those loans. ARMs in general aren't a danager to anyone currently, as interest rates have stayed low enough that payments for loans that aren't negative equitiy won't be going up. If my rate were to be recalculated right now it would actually go down as it's calculated off LIBOR+margin (not the current 30 year mortgage rate). Without a huge jump in interest rates ARMs aren't really going to become an issue. The only people in trouble are the ones currently not paying any principle that will have to start paying it.

Originally posted by 10k:How many people do you think bought adjustable rate mortgages with the knowledge that their payments would be going up 40%+? How many of those people do you think have the ability to meet these increased payments? From now until 2012 there are hundreds of billions of dollars of these mortgages where the payments will be going up ~36% to 80% over what these people are currently paying.

That chart only covers option-ARMs, and even then only applies to people making the minimum payments on those loans. ARMs in general aren't a danager to anyone currently, as interest rates have stayed low enough that payments for loans that aren't negative equitiy won't be going up. If my rate were to be recalculated right now it would actually go down as it's calculated off LIBOR+margin (not the current 30 year mortgage rate). Without a huge jump in interest rates ARMs aren't really going to become an issue. The only people in trouble are the ones currently not paying any principle that will have to start paying it.

You're overlooking the growing number of homeowners who are underwater with their mostgages, the majority of whom paid no money down and have no financial interest in protecting that downpayment. What stops them from walking away (as so many have to date) when they realize they are too far over their heads?

I suggest you go through the archive of Mr. Mortgage, for both his blog and his videos. He presents the numbers issued by the parties invovled, not numbers he has made up through theory. In his latest piece on his blog, he links to Karl Denniger's thoughts on Freddie and Fannie, I suggest you read Karl's commentary as well:

Talking about small percentages of the total being at risk is one thing, but you also need to consider the vast leverage at play in this market, where a default on a small percent of morgages causes a systemic collapse of the system (think derivatives). Bear Sterns was bailed out for just this reason, even though (for all intents and puposes), it was an illegal action on the part of the FED.

Well, this is a mistake. The article I'd read earlier suggested stockholders would be wiped out, and the company would be wholly nationalised. That is the right course of action here. Simply diluting the equity of shareholders is insufficient to prevent a repeat of such a catastrophe in the future, and amounts to bailing out private owners with public money. This is now the worst of both words (but better than letting the entities fail outright). Bother.

Here's the composition of ARMs, as of mid 2007People are talking about ARMs now because the huge wave of option arms recast are about to hit. Since this is the beginning of a new wave, nobody knows what is going to happen with these things.

Ultimately I'd say that the Chinese really got the short-end of the stick here. With the loss of value in US securities, in effect it will mean that the Chinese worker has worked himself to the bone...for nothing.